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Lehman stock, rumors and anti-rumors that support the rumors

NEW
YORK (Reuters) - Shares of Lehman Brothers fell by nearly 10 percent in
early New York trading on Thursday on rumors that the fourth largest
U.S. investment bank could see a run on the bank similar to what
happened to Bear Stearns, traders said.

Declines
in Lehman's shares on Thursday are "all being tied to fears of Bear
Stearns," said Robert Bolton, head trader for Mendon Capital Advisors
in Rochester, New York. "Does another broker dealer go the route of
Bear Stearns with regard to their solvency and the like."

A Lehman spokeswoman called the rumors "totally unfounded," which contributed to the stock taking back much of its losses. Hey, isn't that what Bear Stearns said right before they were going to declare bankruptcy? Do you remember the "Short me, Please!" phrase?

Kerrie
Cohen, a spokeswoman for Lehman Brothers, said, "There are a lot of
rumors in the marketplace that are totally unfounded. We are suspicious
that the rumors are being promulgated by short sellers of our stock
that have an economic self interest." Hmmm... Is that your viewpoint when positive news about your stock is circulated and your stock rises, like last week? I suspect that rumors were being promulgated by long buyers of your stock that had an economic self interest! Let's not cast aspersions, since that can easily cut both ways. As a short seller of your stock, I am a bit sensitive.

At midday, Lehman shares were down 4.28 percent at $40.67 on the New York Stock Exchange, after falling as low at $38.36.

The
U.K.'s Times reported on March 19 that the U.S. Securities and Exchange
Commission (SEC) was probing whether hedge funds and other market
players deliberately circulated false rumors about Lehman Brothers to
push the company's shares lower. Which is cool, as long as they extend the investigation back to last week when the stock popped as well, looking for pump and dumpers. The macro and micro environment for these companies are extremely negative, performance and fundamentals are quite negative, and the outlook for the medium term looks bleak, with the threat of regulation for the long term. It makes much more sense for the stock to move down, rather than up. It bothers me when the government and the media (ala CNBC, et. al.) condone the pump and dump, but when valid concerns about fundamentals and macro trends arise there is all of a sudden a mass conspiracy.

Investors
have been skittish about investment banking shares since the middle of
the month when Bear Stearns Cos Inc experienced a run on the bank amid
fears that its mortgage exposure could leave it insolvent. Schwartz's statement right before his bank's collapse would be enough for anyone in their right minds to be concerned when Lehman decries the "Short me, Please!" phrase.

Other
traders, who declined to be identified, echoed Bolton's assessment for
the reason behind the drop in Lehman's shares. In addition, large
bearish bets on Lehman in options markets contributed to selling
pressure, some traders said. I'll have to admit that my position is not as large as it should be yet. It is larger than it was, but it hard to build a truly worthwhile position with the puts as expensive as they are, excessive IV.

Lou Brien, a
strategist with DRW Trading Group in Chicago, said there had been a
rumor on Thursday that Lehman was close to making an announcement,
which contributed to the shares selling off, but the announcement
proved to be about the bank hiring a new co-head of global
institutional distribution, after which shares recovered.

Lehman
Brothers a decade ago derived an outsized proportion of its earnings
from the U.S. bond market and has long been an active player in
mortgages, leading some investors to argue the company could be
devastated by the credit crisis. But Lehman's business is much more
diversified than it was in the 1990s, and the company has not posted
any net losses during the credit crunch. The mere fact that they are so susceptible to risk rumors means that they are a risky bank. This is common sense. Who wants to rely on them as a countery party when they have to make an announcement every week to defend themselves against said "promulgators" as their share price drops 10%, 20% 40%, 50% and then pops up for a 20% run to fall back down 12 to 15% again - in just two weeks. Lehman's stock currently sports 195% volatility. That's more than on the options of many hot trading and gossip stocks like the homebuilders. Beta, risk, volatility, deviation from expected return, whatever moniker you want to slap on it, the shares of this company have grown quite risky, reflecting the risk premium the market has slapped on their business. Founded or not, it is there. Is it even worth the risk dealing with them? Who want's to be the huckleberry to find out?

Since
Bear was forced to announce plans to sell itself to JPMorgan Chase
& Co on March 16, the Federal Reserve has allowed investment banks
to borrow directly from the central bank, in a move designed to shore
up the financial system.

In an e-mailed
statement on March 17, Lehman Chief Executive Dick Fuld said the Fed's
creation of a liquidity facility for primary dealers "from my
perspective, takes the liquidity issue for the entire industry off the
table." If things keep going the way they are, Lehman will be the first to put Mr. Fuld's theory to the test.

Lehman said on March 18 that its
holding company has $34 billion of assets it could easily sell, and
another $64 billion of assets it could borrow against. Regulated
subsidiaries have another $99 billion of assets it could borrow against. Hmmm... "easily sell". That's the problem with liquidity. When you have liquid instruments, liquidity is always there - until there is a dearth of liquidity and you really need to sell them.

Japan is trading down, allegedly due in part to Lehman liquidity concerns. There would be much less gossip and innuendo if Lehman didn't hit the discount window the second it was available. See Wall Street Firms Borrowing Heavily From the Fed

Those firms averaged $32.9 billion
in daily borrowing over the past week from the new lending facility, compared
with $13.4 billion the previous week. The program, which began last Monday, is
part of the Fed's effort to aid the financial system.On Wednesday alone, lending
reached $37 billion.

On a seperate, but related note, I may be bringing the blog analysis over to Europe. Lehman forcasts a 35% chance of recession in the UK and a drop in the official rates from the BOE. The UK and eurozone banks are doing as bad as the US banks, if not worse. The pound is due for a pounding as well, both against the dollar and the euro. So, if the financial stocks rally against the fundamentals ala the US financials, I will start my shorts over there as well. I will be doubly as speculative, but the potenial return is worth the risk in my eyes.

It's as if the market is hearing a totally different hearing that I am. The Fed and the SEC are attempting to be elusive while several senators are pressing for more answers, transparency and information. This is information that the Fed's do not wish to reveal, ex. who were the counterparties at risk to BSCs failure, what is the composition of the collateral that the tax payers are on the hook for, how was the price derived for BSC's share price, etc.

Rumors????. I prefer to make investment decisions based on facts, whether buying or
selling. The financial stocks are down because of huge losses due to factors that we
all know about. If commercial and residential conditions continue to deteriorate those
losses will accelerate depending on the "quaility" of their RE loan portfolio. If the IB's
want to quell the rumors, open your books, show everyone the quality of your loan pools,
counterparty risks etc. ie. total transparency. Blaming rumor-mongers and short-sellers for their problems is pretty "interesting" stuff. On a more serious note. I find it unconscionable that anyone or any organization could recommend buying these stocks without
that sort of transparency. If it was in the IB's best interest to be transparent, they
would be. Or,should we just take them at their word that "everything is A-OK and right
on schedule."

I sold my LEH options for a quick double. Absolute gift when that POS overshot after the last "run on the bank". Don't forget - these guys are playing with a stacked deck. They got a Fed that spends like a drunken sailor, have completely loose requirements on mark to market (witness level III toxic waste not dropping), and an election year government falling all over themselves to bail these guys out with public money.

The SEC should be focusing on blatent insider trading - like when you see hundreds of thousands of options sell before news is announced, and "unusual" trading activity before news is announced. To focus on a short seller "rumor" is ludicrous, and an embarassment for the SEC quite frankly.

We all know that Lehman is in a lot of trouble and could be the next investment bank to go bust, but I just cannot bring myself to buy the puts which already have an implied volatility of over 145%. The only way these puts would be worth anything is if Lehman collapses (always a possibility). I am staying away from shorting the investment banks after the FED bailed aout BSC. They might all be insolvent but they can now borrow directly from the FED, even if their collateral is close to worthless.

I am looking at the banks as a good place to short or buy puts. Commercial REITS are also looking good. Wachovia looks good along with Fifth Third.

I can guarantee you that if we get that we will see single digit, major bank prices and bankruptcies - but, I would gladly invest in what is left for the US does have some of the best bankers in the world. The problem is some of them are just too damn smart for their own good.

Cramer was on CNBC this morning saying banks were a buy, buy, buy - and know how he wanted to prove it? Call the banks and "let them tell their side of the story." Ummmm. How about that laying bare of books to see what assets they have and why they're worth what Lehman et al say they are worth? Citibank itself comes in from stage left, now that's reassuring. And Massachusetts is calling on BoA, Merrill, and UBS to step up and say why they did or didn't screw investors on auction asset values. I used to be an auditor and understand well that talk is cheap, especially from business exec's under pressure. We need a good, solid, mandatory round of price discovery for financial institution assets and liabilities. Hard to see any other way around this crisis in confidence that is delaying resolution of credit markets.

Here citibank says Lehman has ample liquidity (which it may), but then goes on to say that they had excellent earnings (they did not, as we found in they hid a loss through FAS 159 accounting), and then goes further to say that they are worth $65 share. Where in the world are they going to get the earnings to support such a price when revenues are being chopped in half and their business drivers are being dried up and regulation is coming down the pike and they still have devaluing assets being written down with most likely imprecise hedges?
[url]http://www.bloomberg.com/apps/news?pid=20601087&sid=ajj.WbV28HKg&refer=home[/url]

This smacks of bank camaraderie. I agree that Lehman may have ample liquidity due to the Fed actions, but the rest of it is a stretch.

That is probably the most professional way I have ever seen anybody disagree with me on a blog. Kudos. You should give lessons in communication. I think you misconstrue some of my statements, though.

A) It should be obvious by now simple saying our liquidity positions are fine is not good enough. This lesson is unequivocally laid bare in the monoline scenario. They consistently tout the virility of thier portfolio and financial positions while short sellers make money and the market prices them as deep junk. All they had to do to keep Ackman quite and cause me to reverse my position was to show how they were financially sound, not tell us how they were financially sound. Lay open your portfolio and detail its performance. They chose not to do this (and I admit that there are a few choice reasons why one would refuse), but in doing so they are condemned to the guesswork of the pundits, and even more importantly lose credibility in the marketplace. Lehman has an army of analysts, and it would not be a strain to prepare a detailed, yet concise white paper on their liquidity position that points out exactly how they're protected. Just saying "we're fine" brings to mind Ambac, MBIA, Hovnanian, and most recently Schwartz's Bear Stearns. That is not good company to be keeping if you are interested in your net worth.

B)I understand, perfectly, the point about trying to call unfounded rumors unfounded but to blame the drop of the stock on short selling rumors without applying the same logic to the unprecedented pop in the stock is disingenuous. Of the stock drops 10% its a short seller conspiracy, but if it pops 15% its due to ?????. Of course there are rumors and speculation floating around concerning Lehman, and I am sure a few short sellers may have whispered in someone's ear, BUT the opposite happens more often, much more often. Wall Street is famous for the pump and dump - that's where the term came from. There seems to be much less complaint about the rumors that drive the stock up than those that drive the stock down. Does the populace lose more money with the short rumors than with the long rumors, whether started for economic gain or not? Is one worse than the other? If either is unsubstantiated, they are just as wrong and I am quite sure that someone, somewhere at some time started a rumor for economic gain that had to do with a stock going up.

C) Isn't the ex-CEO of TYCO in jail now for fraud? Bad example ;D but I get your point.

D) It is not just about the stock just going down on rumors. It is the stock going down often on rumors, then popping back up (on rumors?), then back down again (on rumors?). This increases the [url=http://en.wikipedia.org/wiki/Beta_coefficient]beta[/url] of their stock, leading to an increased expected [url=http://en.wikipedia.org/wiki/Risk_premium]risk premium[/url], which in turn increases the cost of their equity capital and perceived equity risk (defined as downside deviation from expected return on this blog, by this author who is not a math geek so excuse him if he's wrong) ;D. You see, this popping up and down of the stock essentially makes it riskier stock. The rumors also expose a significant chink in the US I banking model. I banks take a relatively small amount of equity, lever it 25 to 35 times, and buy and sell things that few understand (including the I banks themselves). They offer services, many based solely on the publics belief that they know what they are doing. Products and service business models offered by I banks using 97 LTV loans based on the perception of superior knowledge or skill are quite susceptible to confidence levels, and are not nearly as sturdy as say Manufacturer X that makes widgets that can be touched and tested and physically compared. This allows I banks to generate considerable profit margins as compared to the widget company, but exposes them to unique and considerable risks as well. Lehman and Bear Stearns are sterling examples of these risks. Basically, many banks value, like beauty itself, is in the eye of the beholder.

First, let me congratulate you on your call on Bear Stearns. You've made several nice calls on various stocks (ABK, MBI, housing stocks, etc.) dating back to last year.

That said, I have to respectfully disagree with some of your comments regarding LEH. I don't mean to say I think the stock is going uo - I don't know - but I think you are being a bit unfair. It seems Lehman is damned if they do, damned they don't. If they don't comment on rumors that are circulating (whomever may have started them) it makes it appear that there is some validity to them (think Alex Rodriguez). If they do, they sound like Bear Stearns, at least according to you. Moreover, I don't agree that its common sense that they are a very risky I-bank simply because the stock goes down on rumors. This has happened to many companies over the years. I remember buying Tyco, for example, after the stock was cut by 75% only to see if fall another 50% from that price due to rumors it was the next Enron. The company kept saying their revenues were not fabricated (btw..should they have kept quiet?) but for the time being enough people didn't believe them to send the stock to single digits. I actually did quite well by buying more. To be sure, the I-banks, banks et al. are cetaintly higher risk compared to two years ago. The weak economy alone suggests that. But during periods when fear is elevated, concerns about viability tend to be amplified, in my view. Like Tyco, LEH deserved to be knocked down from last year's peak. Their balance sheet is riskier than before and the macro-economic picture looks dim. However, like Tyco, unfounded rumors are just that. And what the LEH spokesperson said could very well be true: recent rumors related to viability may have been started for economic gain. I don't see that as a knock against short-sellers. Rather, I see it as one possible explanation for the recent slide in the stock, and if its true it needs to be addressed. Anyway, you may be right about LEH going down further. I don't have a position in LEH although I made some money shorting other financials/housing stocks. However, if the Fed is willing to back LEH and if LEH can weather the current storm (including unsubstantiated rumors), then it may be a buying opportunity. Just a thought. I wish you good luck in your position. You have a great blog and have been right much more than you've been wrong too.

where do you gather information about the funds borrowed by I banks through the discount window. Are there daily stats at http://www.federalreserve.gov/releases/? Didn't find any data. Where are real quotes/data of credit spreads of CDS of individual banks published?

Reggie - as always first class and amusing insight into the I Banks. As I live outside the U.S. I cannot understand why both the Fed and the Treasury are pulling out all the stops to save the I Banks. Has the world stopped as a result of Bear Sterns demise? From an outside perspective the U.S. is becoming a socialist state propping up every deadbeat financial institution. I think the line about systemic risk is just a smokescreen.

When will the Fed and the Treasury realise that the failure of a few financial organisations is part and parcel of a properly functioning economy. The problems that are occurring now are the result of the previous Fed chief doing whatever it took to avoid a recession in 2001 and hence causing much greater problems later on. By trying to avoid problems now they are only storing them up and making them worse later on. Or is this a grand strategy of the Bush administration to dump the problems on an incoming Democratic organisation. I don't think he's that clever!